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Pimco cuts U.S. government holdings to 8.5 percent as firm braces for hikes

Bill Gross speaks at the Morningstar Investment Conference in Chicago, Illinois, June 19, 2014. REUTERS/Jim Young

(Reuters) - Pimco slashed its holdings of U.S. government-related debt in its flagship Pimco Total Return Fund by almost two-thirds in May from the prior month, the firm reported on its website on Tuesday, as it braces for the Federal Reserve to hike interest rates.

Pacific Investment Management Co, which is known as Pimco and is a unit of Germany's Allianz SE, said the Total Return fund's holdings of U.S. government-related debt fell to 8.5 percent in May, down from 23.4 percent in April.

The $107.3 billion fund, which lost its crown as the world's biggest bond fund in April to the Vanguard Total Bond Market Index Fund, held as much as 35.3 percent of U.S. government-related holdings in February.

U.S. government-related holdings may include nominal Treasuries and inflation-protected Treasuries, Treasury futures and options, agencies, FDIC-guaranteed and government-guaranteed corporate securities, and interest rate swaps.

Earlier on Tuesday, Pimco's global fixed-income chief investment officer, Andrew Balls, said financial markets could be taken by surprise by higher U.S. interest rates in the future, noting that investors had priced in the prospect of relatively low interest rates. He said it was "perfectly plausible" that the Federal Reserve could raise borrowing costs above the "neutral rate" over time.

The Pimco Total Return Fund, which has posted a negative return of 0.12 percent so far this year, had its largest position in mortgages, which accounted for 34.6 percent of holdings as of May 31, according to the firm's posting on its website.

It had 19.1 percent in emerging-market securities and 17.8 percent in short-duration instruments. In credit, the fund has an 8.2 percent allocation to investment-grade debt and 3.3 percent in high yield.

Investors yanked another $2.7 billion from the Pimco Total Return Fund in May, in a 25th straight month of withdrawals, but less than half the previous month's withdrawal pace.

The fund, long managed by legendary bond manager Bill Gross, hit a peak of $292.9 billion in assets under management in April 2013.

Gross exited Pimco suddenly last September for smaller rival Janus Capital Group Inc.

Pimco has seen over $130 billion of net withdrawals from its open-ended funds since Gross' departure even as performance has improved.

(Reporting by Jennifer Ablan in New York; Editing by Leslie Adler)